A bridging loan is an intermediary between your mortgage and the loan you’ll need to purchase your next house. An individual’s specific financial situation influences the intricacies of such a loan.

For those securing an unsecured bridge loan, traditional banks or private lenders will often assume the mortgage of the existing property while also financing the acquisition of the new one. The total sum borrowed during this period is termed Peak Debt. This encompasses the outstanding amount from the original mortgage, the price of the new home, and other related costs such as legal fees, stamp duty, and lender fees.

It’s vital to grasp the repayment structure for bridging loans. The minimum payments are generally calculated based on the loan’s interest rate. This interest accumulates, or “capitalizes,” until the initial property is sold. The sales proceeds contribute to the bridging process upon selling the primary residence. Costs tied to the sale, like real estate agent commissions, are applied to reduce the peak debt. What remains after these deductions is termed the “End Debt”, which transitions into a regular mortgage to be serviced over time.

What is a Bridging Loan and How do Bridging Loans work in Australia?

In Australia, bridging loans serve as short-term finance solutions, aiding homeowners transitioning between selling their current home and purchasing a new one. They provide funds to cover the period (or “bridge”) until the original property is sold. Interest on these loans typically accumulates monthly, but repayments are often deferred until the original home is sold.

Here’s a simplified breakdown of what is a bridging loan acquisition and sale process:

Imagine you have an outstanding loan of $200,000 on your current home and need an additional $300,000 to buy a new property. This means you could borrow up to $500,000 – this total is called the ‘Peak Debt’.

With a loan balance of $500,000, you must start servicing the interest before selling your original property.

If you capitalize on the interest (provided the lender allows it), it will accumulate until the loan is settled or the house is sold.

To illustrate, let’s say you’ve managed to settle the interest and the initial $500,000 Peak Debt. If you then sell your house and earn $200,000 from the sale, you can use this amount to offset the Peak Debt. This will leave you with an ‘End Debt’ of $300,000 (i.e., $500,000 minus $200,000).

At this point, you shift to a traditional mortgage arrangement, making routine instalment payments, much like repaying any regular home loan. This means instead of managing fluctuating bridge loan conditions; you now have a set repayment structure to follow.

Types of Bridging Loans in Australia

Bridging loans generally fall into two categories, each suited to different stages of the property sale process:

Closed Bridging Loans

These loans are best suited when an exchanged contract has a set price and a confirmed settlement date. The “closed” nature implies a predetermined end date for the loan, offering lenders a sense of security. This is because properties with exchanged contracts are less likely to experience failed settlements, thus reducing the risk for lenders.

Open Bridging Loans

Open bridging loans are more flexible and cater to those looking to purchase a property but have just put their current property up for sale. Lenders perceive these loans as more risky because there’s no definite sale date for the original property. As a result, borrowers might need to fulfil stricter criteria or provide additional assurances to obtain this type of loan.

Eligibility Criteria and How to Qualify

The Home Equity

The equity you hold in your home is pivotal in bridging loan approval. Lenders will assess this equity before making a decision. Typically, the more equity you have, the better your chances of securing a bridging loan.

Without or with End Debt

Many financial institutions offer bridging loans, often with the assumption of an existing end debt. However, if there’s no end debt and you’re downsizing your home, expect a higher cost for the loan you’re seeking.

Max End Debt

If you have an end debt, its value shouldn’t surpass the purchased property’s. If the end debt exceeds 20% of the property’s value, Lender’s Mortgage Insurance (LMI) becomes required. Furthermore, you’d need to provide a sale agreement to prove your previous property’s sale.

The Current Loan

The qualifying criteria for bridging loans are pretty standard. If your existing lender doesn’t provide bridging loans, other lenders might step in. However, such lenders often require taking over your current mortgage and settling any dues with the previous lender.

Interest-only

Bridging loans are typically interest-only. Should a borrower opt for an early exit, they might incur charges due to the premature termination of the loan.

Bridging loans are gaining traction in Australia, with numerous providers offering them, including traditional banks, private lenders, and fintech firms. The online application process for these loans is generally streamlined across various lending platforms.

How Long Will a Bridging Loan Take?

The approval process for a bridging loan typically spans around five days when processed by most lending institutions. However, this timeframe isn’t set in stone. Depending on the type of loan you’re after, such as a home loan, the approval period might stretch longer. Complex applications or unique financial scenarios might further extend the approval window.

Once you receive the green light, the bridging loan usually lasts six to twelve months. This timeline is especially relevant for those using the funds for property-related ventures, whether purchasing a new residence or embarking on a construction project. Remember, this loan is designed as a “bridge”, providing temporary financial support until more permanent financing solutions or sales come into play.

No-End Debt vs. End Debt Bridging Loans

Bridging loans are instrumental when transitioning from one property to another. You’ll come across two main types of bridging loans in property finance: ‘No-End Debt’ and ‘End Debt’ bridging loans. Let’s delve into what differentiates them:

No-End Debt Bridging Loans:

  • Essence: This bridging loan means that after selling your original property, no residual mortgage is left to be paid.
  • Scenario: Imagine you’re upgrading to a more expensive property. The sales proceeds from your existing property fully cover the initial loan. Therefore, once you sell your initial property, you’re free from any mortgage tied to it.
  • Benefits: The key advantage here is simplicity. Once the initial property sells, you’re only left with the mortgage of the new property.

End Debt Bridging Loans

  • Essence: With this loan structure, after selling your original property, you’re left with a remaining mortgage to pay off, termed as the ‘End Debt’.
  • Scenario: Consider you’re downsizing or buying a similarly-priced property. The sales proceeds from the existing property might not cover the bridging loan. After selling, a residual debt remains.
  • Benefits: This structure can offer flexibility. While you’ll have an outstanding mortgage post-sale, you can usually secure favourable terms to manage this End Debt as you transition it into a standard mortgage.

In conclusion, choosing between No-End Debt and End Debt bridging loans hinges on your financial circumstances, property values, and personal preferences. Both bridge the property transition but cater to different needs and outcomes. Working closely with a financial adviser is vital to determine the most suitable path for your situation.

Advantages of a Bridge Finance

A short-term bridging credit comes with numerous advantages that include:

  • Purchase now and sell it later: There is no reason to abandon your dream home when you attempt to sell your current home.
  • Leisurely Sale: The house with a break will allow you to avoid any substantial loss in the event of the rush to sell a home.
  • Avoid making the same error twice: Renting a house (and possibly the storage space) after you’ve lost a residence and then buying a home is twice the amount to move could be expensive and complicated.
  • Interest and payments: The lenders permit the interest to be capitalized. In comparison, the customer can pay the loan when the home sells (which means that you aren’t required to pay for the term of your loan).
  • Interest rates for conventional loans: Some lenders offer higher interest rates for bridge loans. At the same time, the good news is few lenders have standard variable rates on similar loans.
  • Advance Instalments: You can lower the interest cost if you pay interest and principal on your loan during the bridging time.

Disadvantages of Borrowing Bridging Loans

When borrowing, bridging loans is one of your best choices. However, always consider the potential disadvantages.

  • The uncertainty selling risk: Bridging loans are loans for short periods that typically last between 6 and 12 months. You could be at risk of selling the home before the conclusion of the bridging loan term. Due to time-sensitive situations, you may be pressured to sell your home lower than you’d like. It is significant to remember the more time it takes to market your home, and the longer it takes, the higher the interest you’ll have to pay on the loan.
  • Monthly compounded interest: Interest charged monthly means that the more time it will take to current market property, the rate of interest and credit on your loan will increase. If you do not sell your home within the time frame of the bridging loan, you will likely be assessed a higher interest rate.
  • No option to redraw: If you decide to pay during the bridging time, it will be impossible to draw those funds again.

What are the alternatives?

If you plan to buy an investment property before selling the one in hand, it is vital to weigh all options to ensure you can pick the best that suits your situation and requirements perfectly.

A bridging loan isn’t the only choice available. It is also possible to consider the following:

  • Modifying your purchase contract: including a “subject to purchase” clause in the contract that you sign for your new residence means it will not be binding until you’ve sold the previous one.
  • You can negotiate a more extended settlement period on the new home you are buying, giving you the additional time you may have to sell the previous property before the loan for the new one starts.

Are bridging loans the right choice for you?

It is vital to understand the advantages and disadvantages of bridging loans and how they might impact your financial circumstances. A valuation of your current property to know the price you’ll be able to market will help you make an informed decision.

Find out more about the location of your property, the kind of property you’re looking to sell, and actual market trends. However, it will also give you an understanding of the time it could take to sell your home.

Additionally, consider the settlement time (generally 5-9 weeks). Moreover, most bridge loans are temporary and only valid for 6-12 months.

Some lenders may suggest that you have a minimum of 55% equity in your current property before considering a bridging loan to avoid paying an enormous monthly interest.

If your financial situation permits it, make regular payments over the bridging time to avoid accumulating interest and reduce the total debt.